CREC054300 - Eligible expenditure: UK expenditure: video game examples
For video games, core development activities such as programming and detailed game design are the equivalent of principal photography for films and TV programmes, while work done to assemble different assets or code into a single game is akin to post-production for film and TV.
HMRC applies the used or consumed rule accordingly. Core development activities are used or consumed where they are performed. The work required to assemble different elements together into a final product is considered to be used or consumed where it is carried out, but that doesn’t mean the costs of those different elements can automatically be attributed to that final location.
More detailed explanations are set out below.
Goods
Expenditure on goods is qualifying UK expenditure when those goods are used in the UK. It does not matter if they are manufactured overseas or purchased from an overseas supplier, provided they are transported to the UK for use as part of UK development activities.
For example, the cost of a prop weapon used as a reference for asset designers working in the UK would be qualifying expenditure.
The same principle applies to intangible goods such as music rights, copyright and intellectual property. The cost of obtaining copyright so that designers and programmers can develop a game using that material will be qualifying expenditure if those designers and programmers carry out their work in the UK. It is the location of the recipient who uses or consumes the goods that determines whether they qualify.
Services – direct services
Expenditure on services is UK expenditure if the services are performed in the UK. In many cases, where the work done contributes directly to game development, this rule is straightforward to apply. Designers, programmers, quality assurance testers and other staff perform their services wherever they themselves are based. This means that:
the costs of staff who work in a UK office or work remotely from somewhere in the UK are UK expenditure
the costs of staff who work from outside the UK are not UK expenditure, even if the development company is mostly based in the UK
The rule applies in the same way to work carried out by subcontractors.
Example 1
A UK development company is in the same group as a company in Poland. The UK company hires the Polish company to design and build the user interface and loading menus for its latest game. Programmers working in the UK for the development company add the Polish company’s work into the final game.
The fee paid to the Polish subcontractor is not UK expenditure, because the design and programming services are performed in Poland. The cost of adding the code produced by the Polish company into the game is UK expenditure, because the UK programmers perform their services in the UK.
Example 2
A UK development company subcontracts a company in Sweden to design and programme the hair textures for character models in its latest game. The Swedish company carries out the work entirely in house using staff working in Sweden. The finished hair textures are added to the character models by the UK developer and appear in the final game without any changes.
The work of the Swedish company appears directly in the final product, and the service – designing and creating the hair textures – was performed in Sweden. The fee paid to the Swedish company is therefore not UK expenditure. However, the cost to the UK developer of adding the textures to its character models is UK expenditure.
Services – indirect services
In the case of some services, it is not obvious where the services are ‘used or consumed’. Generally, these are services which contribute indirectly to the video game. This includes, in particular, services supplied by script/dialogue writers, concept artists, composers and researchers. Their work does not appear directly in the game but is used by others to help develop the game, or must be incorporated into the game by others in some way.
Expenditure on such services will be considered to be expenditure on services used or consumed in the UK to the extent that the service is used by developers/programmers who are working in the UK. For example, the services of an overseas researcher taking reference images of a location in the USA would be used in the UK if those reference images are used by UK-based designers and programmers to help develop the game, and would therefore be UK expenditure.
It is also common for some of these services to be used or consumed in more than one way. The only way to determine whether such services are used or consumed within the UK is by looking at the facts in each case, and where necessary, apportioning the costs between UK and non-UK expenditure.
Example 3
A concept artist based in France produces a piece of concept art for a character design. The character asset is later modelled and incorporated into the game by a team of programmers, half of whom work in the UK and the other half in Romania. The video game development company should apportion the expense paid to the concept artist half and half, to reflect that the artist’s work was used in both the UK and Romania.
Example 4
A UK development company commissions a composer in Canada to write music for a video game soundtrack. The composer produces the score in Canada, which is used to record the soundtrack by an orchestra in London. Because the score is used to record the soundtrack in London, it is used in the UK. Expenditure on the score will therefore be UK expenditure despite it being composed in Canada.
Example 5
A UK development company wants to use motion capture to create character model movements. It subcontracts the motion capture work to a German company, which sources actors and records the motion capture for the actions the UK developer has requested. It carries out all of this work in Germany. Programmers working in the UK for the development company then apply their character models to the captured actions and incorporate them into the wider game.
The fee paid to the German company will be UK expenditure, because the motion capture work underpins development activity which takes place wholly in the UK. The service is therefore used in the UK despite the work being carried out in Germany.
Apportionments
For goods and indirect services that are used partly in the UK and partly overseas based on the rules above, it may be difficult to determine the proportion of UK use when expenditure on that good or service is first incurred. This may be especially true for video games that are developed over several years.
In such cases, when the expenditure is first incurred and included in a claim, companies must assess the proportion of the expenditure that is UK expenditure based on a fair and reasonable expectation of the balance of UK usage vs overseas usage across the whole development process.
This proportion should be reviewed for each accounting period as development progresses and adjusted if circumstances have changed materially since the last period. This may require amending previous claims.
If HMRC considers that a company’s estimate of the proportion of expenditure that is UK expenditure is not just and reasonable and that the UK proportion is too high, it will amend a company’s claims and/or issue assessments accordingly.
It is not necessary for companies to track the usage of goods or indirect services down to the level of individual staff. Apportionments based on the proportion of staff working predominantly in the UK as opposed to predominantly overseas are acceptable.
Example 6
A development company pays a £10,000 fee for the rights to use characters from a book series in its latest video game. The fee applies to the life of the development but is all paid upfront in the company’s first accounting period for the separate production trade.
The company has its own staff working in the UK but also expects that it will need to bring in a subcontractor to work on some of the character models, using the rights to the book characters. At the end of the first accounting period, the company has not finalised its plans but expects to award the work to a small development studio based in Austria.
Of the staff from each company that will be working on the game, and therefore using the character rights, 70% are from the development company, based in the UK, and 30% work in Austria for the subcontractor studio. The development company therefore includes 70% of the fee, £7,000, as UK expenditure in its VGEC claim.
In the next accounting period, the company ceases work on a different project, which frees up developers to work on the book series game. It is decided that the Austrian subcontractor will no longer be needed and the book rights will now be used wholly by developers working for the development company in the UK.
This means that the development company can claim the full £10,000 book rights fee as UK expenditure. It can claim the £3,000 not already claimed by amending its return for the original period, or including the additional UK expenditure in its cumulative totals for the current period.
Determining the location of subcontractors
To apply the rules above to determine whether a good/service is used or consumed in the UK, it is important to be able to identify the location of a subcontractor: UK or overseas. Where a subcontractor is an individual, this is usually straightforward, but where a subcontractor is a company that employs multiple people, the situation may be more complex. For example, a company based in Germany could employ some staff who are based in the UK.
In such cases, a just and reasonable apportionment should be made based on the proportion of staff who work in the UK and the proportion who work overseas. Mobile employees who spend time working in multiple jurisdictions should be counted as working in the jurisdiction in which they spend the most time.
HMRC will make adjustments to correct apportionments that are not reasonable. It is the responsibility of development companies to ensure that information provided by their subcontractors is reliable.
The proportion of UK to overseas staff may fluctuate over the course of the subcontractor’s involvement in development. Provided the apportionment applied by the development company was just and reasonable at the time it entered into a contract with the subcontractor, fluctuations need not be accounted for. If a development company is aware when it enters into a subcontracting arrangement that the UK proportion of the subcontractor’s staff is likely to change significantly during the subcontractor’s involvement, it should factor this into its initial apportionment.
Different phases of development
The location in which goods and services are consumed for each phase of development is determined independently of earlier phases of production. If most expenditure on a phase of production is UK expenditure, it does not follow that expenditure at later phases will also be mostly UK expenditure.
For example, a development company undertakes design work on a video game entirely in house. The concept artists, level designers, programmers and other staff working on this stage all perform their services at the company's UK offices, so the expenditure incurred by the company for this phase of development is wholly UK expenditure.
Once the game has moved into full production, the company hires a subcontractor in France to produce some of the assets for the game, based on designs produced within the UK. The French subcontractor performs its work overseas and the expenditure on it is not UK expenditure. It does not matter that the earlier design phase of development was wholly in the UK or that the assets were based on UK designs.